Iridex Corp Q4 FY2020 Earnings Call

Ladies and gentlemen, thank you for standing by, and welcome to the Iridex Q4 and Full Year 2020 Conference Call. At this time, all participants are in listen-only mode. After the speakers’ presentation, there will be a question-and-answer session. As a reminder, today's conference call is being recorded. I would now like to turn the conference over to your host, Ms. Leigh Salvo with Investor Relations. Ma'am, you may begin.

Thank you, and thank you all for participating in today's call. Joining me are David Bruce, Chief Executive Officer; and Fuad Ahmad, Interim Chief Financial Officer. Earlier today, Iridex released financial results for the quarter and year ended January 2, 2021. A copy of the press release is available on the company's website. Before we begin, I'd like to remind you that management will make statements during this call that include forward-looking statements within the meaning of Federal Securities Law, which are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Any statements made during this call that are not statements of historical fact, including, but not limited to, statements concerning our strategic goals and priorities, product development matters, sales trends and the markets in which we operate. All forward-looking statements are based upon our current estimates and various assumptions. These statements involve material risks and uncertainties that could cause actual results or events to materially differ from those anticipated or implied by these forward-looking statements. Accordingly, you should not place reliance on these statements. For a discussion of the risks and uncertainties associated with our business, please see our most recent Form 10-K and Form 10-Q filings with the SEC. Iridex disclaims any intention or obligation, except as required by law, to update or revise any financial projections or forward-looking statements, whether because of new information, future events or otherwise. This conference call contains time-sensitive information and is accurate only as of the live broadcast today, March 22, 2021. With that, I'll turn the call over to Dave.

Thank you, Leigh, and good afternoon, everyone. Thanks for joining us. On today's call, I'll provide a brief review of Iridex's 2020 progress, where our business stands today, and our fourth quarter and full year results. Then I'll touch on our continuing growth initiatives and outlook for 2021. After that, Fuad Ahmad will provide additional color on our financial results for the quarter and the year. And then we'll open it up for calls and questions. So clearly, 2020 was an extraordinary and difficult year for many companies. At Iridex, we saw our second quarter revenues fall by 40%. But over the course of the remainder of the year, with focus from the entire Iridex team, we adjusted how we operate and pivoted, and ended 2020 delivering one of our strongest quarters in years. In addition, we achieved several important milestones, including launching improved products and enhancing our market position. And we exited the year with solid momentum that will help drive several exciting catalysts in 2021 and beyond. I'm pleased to report that Iridex had a great fourth quarter. Despite continuing COVID impacts, year-over-year revenue increased by 5% to $12.3 million, a multi-year quarterly high, plus gross margin improved by 4 percentage points, while operating expenses were reduced by 9%, resulting in nearly breakeven net income. Returning to the highlights of the progress in 2020. The year was, of course, dominated by managing and responding to challenges created by the pandemic. However, we also continued to execute on our longer-term strategic objectives. First, we implemented structural changes to reduce operating costs and preserve cash to extend our financial runway, and the success of these measures allowed us to limit cash usage to only $1 million for all of 2020; we finished the year with $11.6 million in cash. Second, we adjusted our sales and marketing processes to improve market awareness and expand adoption of our non-incisional MicroPulse Transscleral Laser Therapy or TLT, engaging new customers and reengaging our significant installed base. We began the year launching our revised MicroPulse P3 probe, then mid-year successfully shifted to virtual and web-based sales activities supporting customers. Although mid-year procedure volume declined significantly starting in April as offices and surgical center closures were strictest, we strongly recovered U.S. glaucoma probe volumes in Q3 and Q4, both exceeding 2019 pre-COVID levels. And third, we continued rolling out product enhancements that strengthened our competitiveness and improved gross margins. We updated our TxCell scanning laser module, launched both an updated and a new LIO delivery device, and made substantial progress on our new lower-cost laser platform, receiving FDA clearance and readying the first of the family for launch in 2021. Our progress on these initiatives during the challenging environment in 2020 makes us very confident for 2021. I'd like to take the next few minutes and share some additional highlights from the fourth quarter. Top-line revenue in the quarter exceeded the pre-COVID revenue in the prior year period, improving 5% to $12.3 million. Adoption of our Cyclo G6 probes reached a record quarter in the U.S. with 8% growth over 2019. Outside the U.S., continued impact from COVID restrictions caused small reductions in probe usage. In the fourth quarter, we announced that our MicroPulse TLT has been included in the European Glaucoma Society’s Terminology and Guidelines for Glaucoma. These new guidelines were presented at the Annual Society Meeting this past December. In addition, 9 new MicroPulse TLT studies were presented, exemplifying the continued global expansion and potential for this treatment. We're very encouraged by the results in the fourth quarter from our retina business as well, which had been severely impacted in the third quarter, down 23% versus the prior year. In the fourth quarter, this segment rebounded strongly, posting 11% year-over-year growth. We expect this strength to continue in 2021, particularly as we execute the Topcon collaboration elements. And finally, we're pleased with our success in the fourth quarter managing our capital resources. Similar to the third quarter, our web-based sales and marketing activities enabled us to limit operating expenses, while at the same time, exceeding revenue from the prior year. I'd like to briefly highlight our continued progress in product development, circling back to the launch of our new laser indirect ophthalmoscope, the LIO Plus in the third quarter. The positive feedback we received from our users following that launch has translated to adoption and strong order flow in the fourth quarter. We expect this enthusiasm to continue in '21 as the ophthalmic business landscape recovers from the deferrals and cancellations that resulted from COVID. We also have our new laser system platform well underway with the 810 system launching soon and the 532 and 577 frequency lasers expected later in the year. In addition, with the acquisition of the PASCAL scanning laser line, we plan to combine the key features from PASCAL and our MicroPulse and TxCell products into a single leading platform. Lastly, let me recap the exciting strategic collaboration with Topcon that we announced just a few weeks ago via press release and a conference call, both of which can be found on the Investor section of our website. Topcon is a Japanese-based manufacturer and distributor with approximately $1.3 billion annual revenue in 2019, including $430 million from its global eye care business. This new collaboration enhances our value proposition on three fronts. First, it provides significant additional capital to drive new growth initiatives in retina and glaucoma. Second, it expands our distribution network throughout Asia Pacific and key EMEA regions, Europe, Middle East and Africa. And third, it increases revenue and scale by combining Topcon's PASCAL line with Iridex's MicroPulse and TxCell products, creating a leader in technology and in market share for retinal scanning laser products. The transaction is expected to net $19.5 million in cash to Iridex, and this allows us to fund strategic growth initiatives, such as expanded sales teams, clinical studies, and market development programs, all designed to drive faster market adoption of our glaucoma therapy products. As part of the collaboration, Topcon will assume exclusive distribution rights in Asia Pacific and key EMEA markets for both our retina and glaucoma products. In total, this will account for approximately 60% of our international revenue, and the remaining portion will continue to be sold through our current distributor network. In assuming exclusive distribution rights, both Iridex and Topcon will benefit from a broader offering of diagnostic and treatment products for both glaucoma and retina customers. And finally, combining the acquired PASCAL product line with MicroPulse and TxCell platform products will result in a leading market share in the marketplace, as well as a greater scale to generate design, manufacturing, and marketing efficiencies. So in summary, we believe our fourth quarter results demonstrate the momentum created by the hard work of the Iridex team over the past 18 months. We've seen sales growth in retina, thanks to new products, and we've seen increased market uptake of our unique MicroPulse TLT glaucoma treatment, all despite significant COVID headwinds. This gives us the confidence to increase our investments to grow both retina and glaucoma segments, as we anticipate the ophthalmic market returning to normal as the year progresses.

Thank you, Dave, and good afternoon, everyone. I will now go over our financial performance for the fourth quarter of fiscal 2020, starting with revenue. Total revenue for the fourth quarter was $12.3 million, up 5% from $11.8 million in the fourth quarter of last year and up 40% from $8.8 million sequentially. We sold 13,500 Cyclo G6 probes in the quarter, same volume sold in the fourth quarter of last year, but up 18% over the 11,400 probes sold in Q3. We saw probe volumes approaching the pre-pandemic levels with pricing levels at or above last year. We sold 57 Cyclo G6 systems in the quarter compared to 107 in the prior year period and 37 sold in Q3 of this year. The reduction compared to the fourth quarter of fiscal 2019 was primarily due to the COVID-related capital purchase deferrals by customers. However, consistent with our sales practices for most of fiscal 2020, we have maintained good pricing discipline and saw our system pricing remain steady. In fact, the fourth quarter of 2020 saw a modest uptick in system pricing sequentially on higher volumes, a positive indicator for fiscal '21. Overall, revenue from the Cyclo G6 product family was $3.5 million, although down 5% compared to the fourth quarter of 2019 because of lower system sales, it was a 25% improvement from $2.8 million in Q3 of 2020. Our retina revenue improved significantly in the fourth quarter and posted an increase of 11% compared to the prior year period and 56% compared to the third quarter. To recap, our retina products include lasers, various delivery devices, which we define as capital equipment and endoprobes, which are a single-use per procedure product. Results in our retina product line were helped by the release of improved products and capturing previously deferred capital equipment purchases by customers in light of improving COVID related outlook, both in the U.S. and outside the U.S. Other revenue, which includes royalties, services, and other legacy products, increased 3% to $1.9 million in the fourth quarter of 2020 compared to 2019. Gross margin in the fourth quarter of 2020 was up 420 basis points to 45.4% compared to 41.2% in the fourth quarter of 2019. Gross margin improved significantly as a result of solid pricing discipline and improvements in manufacturing cost structure. As previously reported, gross margin enhancements have been and will continue to be an area of focus for the company. Operating expenses for the fourth quarter of fiscal 2020 were $5.9 million compared to $6.5 million in the same period of the prior year, a 9% decrease. The decrease was a result of our continuing efforts to reduce our operating expenses, both in response to the pandemic and a careful reassessment of our cost structure during fiscal 2020. As a result of meaningful gross margin and operating expense improvements, we reduced our net loss in the fourth quarter to $179,000 or a net loss of $0.01 per share, an improvement of nearly $1.4 million or $0.10 per share from last year. We ended the year with cash and cash equivalents of $11.6 million, down approximately $1 million from the end of 2019, inclusive of the PPP loan. We are very pleased with our year-end liquidity despite an overall decline in 2020 revenue. Our recently announced transaction with Topcon further bolsters our liquidity and gives us additional resources to accelerate our growth plans while retaining our focus on a prudent cost structure and revenue growth, which brings us to guidance. Given the continuing variability in product demand due to COVID, combined with variability introduced by the Topcon collaboration affecting revenue recognition, sales transition effects, and integration costs for the PASCAL product line, Iridex cannot provide meaningful financial guidance for 2020 at this time.

Our first question comes from Jon Block of Stifel.

First question, I'll just continue from where Fuad left off. I understand that you're not going to provide explicit guidance for 2021, but it appears that the business is showing strong momentum. You ended the fourth quarter on a high note. When considering the typical decline Iridex faces from the fourth quarter to the first quarter, it has been somewhat balanced, perhaps around 10% or so, approximately $1 million. Is that the right range to consider? Or can you provide any sort of benchmarks as we look at the transition from the fourth quarter of 2020 to the first quarter of 2021?

John, it's Dave. Thanks for joining the call this afternoon. Typically, we do see a reduction from the fourth quarter to the first quarter. The fourth quarter is often a significant time for capital equipment purchases. Probes also experienced a decline into the first quarter as health plan deductibles are met at the end of the quarter, leading to less urgency in getting procedures done early on. This is the typical pattern. We mentioned that we're seeing continued momentum from our capital equipment success in the fourth quarter, and you can expect that to continue. Capital equipment sales are usually backloaded into the quarters, so with a few weeks left in this quarter, there can be some variability. However, we're generally comfortable with the standard step function. Additionally, we closed the transaction with Topcon and are now manufacturing the PASCAL product line, expecting to generate some revenue from it this quarter as well.

Okay. It was actually going to be one of my questions, but you clarified that as I think about a couple of weeks' contribution from PASCAL specific to your first quarter results. Alright. I'll just pivot and stay within the P&L. The gross margin was certainly a highlight in the quarter, in the mid-40% range. I think it's one of the stronger results in several quarters. How should we think about the gross margin trend? If I recall correctly from the announcement with Topcon, you mentioned expecting some pressure earlier in the year and then strengthening throughout 2021. So do we consider that mid-40% range, possibly declining in the first half, but overall for the full year, the mid-40s is a solid target?

Yes, I believe that’s generally the correct perspective. As we mentioned during our call regarding the Topcon transaction, the first quarter is likely to be somewhat unstable due to the distribution transition to Topcon and the integration costs related to the PASCAL product line. Therefore, we anticipate some compression in the overall corporate margin. However, as these integration costs lessen, we expect to return to the mid-40s starting in Q3 and continuing into Q4. It’s important to note that the improvement in Q4 was primarily driven by increased revenue, which led to better overhead absorption. Additionally, the company has been actively seeking efficiencies in manufacturing processes over the past year, and these efforts will persist, although there is still some impact from the transaction.

And just to add to that, Jon, capital equipment is typically at a lower gross margin than disposables. And as we've added a chunk of capital equipment revenue, on average, that's a higher percent of revenue. So that, just by itself, will pull down a bit the total average gross margins for the company. That's offset by, obviously, higher revenue that comes in as well. And as we continue to grow the probe business, that should drive gross margins up. And as you said earlier, it's going to take a quarter or a couple of quarters to clean up the integration and get the overhead in line as well as operating costs. We're just starting to integrate, and we'll have some opportunities to have a better view of where we can go as we operate for a period here.

Got it. I have one or two more questions. Dave, you mentioned earlier that MicroPulse was included in the European guidelines, and you also referenced some new papers. Are there any upcoming opportunities in 2021 regarding additional guidelines, possibly in the U.S., or other important papers that could enhance the adoption of G6?

Well, there's been a steady stream of papers at the various glaucoma-focused meetings, some relatively large samples. I think one quarter last year, we highlighted a 400-patient study by a group from Toronto or led by a group from Toronto. And those are the kinds of papers that have been coming out. I think the continued publication of evidence on the more moderate stage patients, publications around experience with dosing profiles and the mechanics of procedures and outcomes associated with that, those are the kind of things that investigators are working on right now. And one of the things that we want to focus on is expanding our support of appropriate clinical studies to give the medical community just a greater confidence in particular subsets of patient types, specifically moderates and looking at concomitant procedures with cataract. There's been some publications of that, but a broader set of experience would be desirable. So we look for those kinds of things through the course of 2021.

Thank you. I'm showing no further questions at this time. I'd like to turn the call back over to David Bruce for any closing remarks.

Thank you, operator. That concludes our conference call for today. Thank you for joining, and we look forward to updating you on future quarters.

Thank you. Ladies and gentlemen, this does conclude today's conference. Thank you all for participating. You may now disconnect. Have a great day.